Institutional investment in tech entrepreneurs dates back half a century, and somehow, as the stakes, the capital, and the potential returns have gotten higher, the ages of entrepreneurs have gotten lower.
We take this for granted in our world, so we don’t always step back and think about why it works. How is it that a typical multi-million dollar early stage venture capital investment — pooled from pension funds, charities, endowments, and sovereign wealth funds– is regularly entrusted to a 20-something with zero work experience, no real understanding of how to manage people or capital and no ability to command a room, garner press, or even put together decent financials?
What insurance does an early stage investor have to hedge this obvious risk? What is the current value exchange leading entrepreneurs to build the best possible companies?
In a word it’s fear.
I advise several first-time entrepreneurs and know many more. They all share a feverish belief that what stands between them and success is merely a matter of raising capital and hiring the talent they need. They crave the security and validation that millions of dollars in the bank gives you. That’s only natural.
But once the funding is secured, and the immediate high fives and champagne pass, reality hits them. “Shit. If I failed before, nobody would think much of it. Now there are expectations from investors, friends and family.” The scale of a failed attempt is far greater and likely to garner more attention. The stakes are higher — and so is the corresponding pressure that accompanies them. You now have to produce the Kool-Aid you’ve been selling.
While liquidation preferences and other VC-weighted stipulations typical of a term sheet are meaningful, the real insurance for investors in early stage startups is rooted in this powerful emotion of fear.
Investing in young people works because a young entrepreneur will hand his mind, body and soul over to his new company, sacrificing mental and physical health, social life, vacation and sleep, almost anything to avoid the shame and heartache of failure. The implicit exchange is: You give me X millions and I’ll give you a lease on me, all of me, for several years, or as long as it takes.
All of this is not meant to demonize venture capital. There are, obviously, hugely successful companies today that could never have been built without it. But VC is, by nature, exploitative. Entrepreneurs perceive that they have everything to gain or lose: Success equals win equals happiness; failure equals loss equals sadness. Whether true or not, VCs exploit that perception.
The overwhelming glory of the win and the shame of defeat is especially poignant when we’re young. This is, in part, why many early stage investments skew toward younger professionals. Sure, there are logistical reasons for avoiding investment in older entrepreneurs, who are more likely to be married and have kids, have higher salary requirements and lower risk tolerance. But it’s really the psychological forces at play in a young entrepreneur chasing victory, combating fear with all-nighters, working weekends, and pinching pennies, that give investors more bang for their buck.
Fear, assuming it’s more motivating than crippling, is good for investors. Fear ensures and entrepreneur will work hard, but fear isn’t all you need to build a great company. Ultimately, raising venture capital is not, in itself, a victory. The money only gets you into the game. It means you are opting into the sleepless nights, the all nighters, and the ramen dinners. The tragedy is that many entrepreneurs don’t actually take on an idea worthy of giving up so much of themselves.
They need more than fear. They need love. I don’t mean love from their investors or the outside world. Being an entrepreneur is lonely and thankless at times. But entrepreneurs need to be fueled by love for their creations.
An infusion of venture capital can instill fear of failure in an entrepreneur, but it can’t make him love his creation. Love is what enables entrepreneurs to withstand the fear that comes with accepting someone else’s money and the world’s expectations. Love can make ramen taste good.
So whether you’re thinking about starting a company trying to raise capital for one, ask yourself: “Is this idea something I am passionate enough about to give myself over to?” If entrepreneurs think more about the real tradeoff, without focusing too much on getting a “fundable” product out the door, it will lead not only to a stronger resolve but also to greater happiness and, therefore, improved chances of success.
Ultimately, the things you care passionately about matter more than the things you might deem fundable.